Altos Ventures Musings

Another Perspective on Yahoo!

Paul Graham published an essay about "the problems that hosed Yahoo" which got shared by many people via Twitter and Hacker News. Many people called it "customarily brilliant." 

I really enjoy Paul's writings but this one didn't sit well with me. I disagreed with key points and came away concerned that young entrepreneurs would learn the wrong lessons from history.

In the essay, Paul suggests that Yahoo failed due to two problems - 1) easy money and 2) ambivalence about being a technology company.

Money

Paul takes us back to 1998, when Yahoo was riding high, making money from big brand advertisers as well as over-funded, "fat startups" (a term popularized recently by Ben Horowitz). In Paul's words, Yahoo was "a de facto beneficiary of a pyramid scheme."

I agree that too much easy money, especially over-funding, can harm companies. Too much money can mask problems. That said, I don't think it had much to do with Yahoo's demise.

We can second guess how Yahoo could have re-invested profits but I would not fault them for pursuing it. They built a very successful company which beat every competitor of their era. 

Everyone benefited from the bubble. If Yahoo had not taken the money it may have been diverted to others and weakened its competitive position. You have to be in the game to even have a chance at riding the next wave. 

Maybe what Paul meant to say was that Yahoo management should have recognized that they were lucky or that their business model was not sustainable?

In hindsight, it's clear that Yahoo did not appreciate the potential for search and perhaps over-estimated the quality of their revenues. But, as Paul acknowledged, no one else, including Larry and Sergei, knew how big search was going to be, in 1998.

It's hard to predict the future and deceptively easy to come up with simplistic explanations in hindsight. Yahoo beat its competitors hands down and built a very profitable, growing business. I would not diss them for it.

Paul's second point was about culture and leadership.

Hackers 

Paul suggests that Yahoo was a technology company but either didn't know it or were ambivalent about it. He also seems to imply that if hackers had run the place Yahoo would have been fine (or at least would not have been hosed).

I disagree with both points.

Yahoo was never a technology company. They were a media company (albeit a "new media" company) from the day that Dave and Jerry started serving up pages from their trailer at Stanford.

When Mike Moritz invested in Yahoo, it was the emerging brand and traffic that impressed, not the technology. Unlike Google, there was no core technology from day one. Later on, Yahoo did develop many technologies - they had to in order to scale (Hadoop is one example).

Bill Gates would have also said that Yahoo was never a technology company. When Gates saw Google, he saw a company that reminded him of Microsoft. It was probably the only company that ever scared him. He never had that reaction to Yahoo.

The important thing is not to be like a Google or Facebook (or the early Microsoft). The important thing is to be yourself. Be authentic. Be genuine.

So maybe Paul's point is that Yahoo didn't know who they were. Perhaps, but I disagree that Yahoo had to be like a Google or Facebook because that is not who they were.

Pixar is a great media company. The fact that they were founded by technologists doesn't confuse them. They even sell rendering software to other companies, including competitors. It doesn't diminish their identity as a media company. 

Disney is another example. Walt Disney Imagineering has been inventing cool new technologies for decades. They were the "new media" company of their generation. You don't have to fit someone else's mold. Be yourself. Be unique.

Another key point Paul seems to make is that "adult supervision" is bad. Implication seems to be that if hackers had run the place Yahoo may not have lost. Again, I disagree. 

There is good adult supervision and bad adult supervision.

Amazon is an interesting case study that, on the surface, defies hacker conventional wisdom. Even as they delve deeper into technology, Amazon's management is stacked with MBAs.

Even their most technical businesses, Amazon Web Services and Digital Media (including Kindle), are led by a Harvard MBA and a Stanford MBA, respectively. Even so, Amazon continues to attract and retain plenty of good hackers. In fact, momentum seems to be increasing in the hacker community. 

There is nothing inherently wrong with adult supervision or non-technical management per se.

That said, I do think people can get seduced by the belief that there is a mythical "world class" management team that can fix your company. On this front, I think Paul and I probably agree. Don't count on someone coming in from the outside to fix your company (or, in the case of Yahoo, your stock price). 

When the bubble crashed, Yahoo looked for a savior. In contrast, Amazon stuck with Jeff Bezos even though their stock took a similarly huge beating. Bezos likes to remind everyone how the pundits called them "Amazon dot toast."

Terry Semel knew little about Yahoo or the Internet when he took over in April, 2001. It quickly led to the mass exodus of the future leaders of Yahoo. The fallout we are witnessing now may still be the after shocks. 

To conclude, I'd like to share a great story about how Nike is still shaking up the shoe industry. When Phil Knight retired after almost 40 years as CEO, he decided to bring in fresh blood and passed over the leading internal candidate for CEO. 

Luckily, Nike had such a strong culture that it quickly rejected the outsider. The new CEO, from S.C. Johnson (the makers of Pledge, Windex and other cleaning products) lasted only 18 months. The new CEO is a home grown prodigy - a former shoe designer who was the internal CEO candidate in 2003. 

With 33,000 employees, there is plenty of "adult supervision." It just happens to be the right kind. 

25 Heat Seeking Missiles (and 10 Key Lessons)

First Round Capital's Josh Kopelman recently wrote a great post talking about entrepreneurs as heat seeking missles. Here is an excerpt:

I've lately started to realize that our most successful companies are led by entrepreneurs who have a unique talent -- they are heat seeking missiles.  It doesn't matter where the missile is aimed pre-launch.  Successful entrepreneurs are constantly collecting data -- and constantly looking for bigger and better targets, adjusting course if necessary.  And when they find their target, they're able to lock-onto it -- regardless of how crowded the space becomes. 

At the end he says

You can't predict success based on where a missile is pointed pre-launch.  Instead you have to assess the quality of the targeting system (the team) and the density/size of targets (the market).

He makes a great point. If you want to read about many more "heat seeking missiles," I’d recommend a book called “Retail Superstars” by George Whalin (http://www.retailsuperstars.com/) which talks about 25 great entrepreneurial success stories.  

I LOVE observing and studying great retail entrepreneurs because there is nothing quite like the retail business. There is no other business which puts entrepreneurs in front of customers so close, so personal and so often. I grew up in a retail environment. My mother owned franchised Hallmark Card and Gift shops and I remember chipping in, working every Christmas season, helping customers and gift wrapping thousands of presents over the years. Depending on the person and who the gift was for, I often made small, last minute adjustments on the type of wrapping paper, ribbon or knot (also, I did it to keep it more creative and interesting).  

The book essentially describes 25 great entrepreneurs (and their families, since most are family-run) and the story of how they built fantastic businesses which have not only survived but thrived in this most recent era of retailing dominated by Wal-Mart and big box retailing. 

The assault on independent store operators (most of which are run by entrepreneurs) didn’t just happen with Wal-Mart (which got started in the mid 1960s). There is a book called “Chain-Store Retailing 1859-1950” which chronicles how chains such as Sears, Montgomery Ward and JC Penny began spreading across America putting local merchants out of business along the way. The chains were becoming so powerful that in the 1920s and 30s, some communities and even states enacted laws to limit the number of new stores by chains.

The "retail superstars" defy conventional wisdom and epitomize the “think different” approach that all great entrepreneurs take. They provide proof that great entrepreneurs can succeed, against all odds, in ANY market against even the toughest competition.  The book is truly inspirational (if you love and admire entrepreneurs).

The top 10 lessons and common traits across the 25 retail superstars are:

1. There was no up-front plan or even long term vision. “When asked whether their companies had been built based on a business plan or set of guidelines, they invariably answered no, their growth was guided by what customers wanted and expected from their stores, what the marketplace dictated, and how they could best serve their customers.”
2. They got started with no outside funding - and ALWAYS with very modest stores, or sometimes no store at all - like selling fruit out of a cart. They all became hugely successful, one modest step at a time.
3. They are scrappy survivors. Many suffered disasters, even death as some businesses moved from generation to generation, yet they all kept growing.
4. They hired great people (friendly, knowledgeable staff) and kept them for a long time (which is unusual in retailing). They took care of their people who, in turn, took good care of their customers.
5. They embraced change and instilled a culture within their companies to allow staff to innovate and adapt to the needs of their customers and communities.
6. Even as circumstances changed, they maintained long term relationships both inside and outside of their stores. Repeat customers and word of mouth advertising fueled growth in each business. They figured out viral marketing long before it was so hip.
7. Surprisingly, they used technology to their advantage. Technology is just a means to an end. Most used the Internet and social media to engage their customers and broaden their reach (before the Internet, they used catalogs and direct mail). Every single business in the book grew with an absolute focus on the customer. If technology is useful for that purpose, it should be used.
8. They all gave back. Each retailer were pillars of their communities and incredibly generous to various causes around their communities with not only money but time and thoughtfulness.
9. They defied conventional wisdom and showed that there are many ways to succeed. Some retailers had great selection and huge stores. Others were focused and had very small stores. Some retailers offered great value and led with price. Others catered to the very high end and would give you sticker shock! Some operated in very big cities and big markets. Others operated in very small towns in the middle of no where where customers would have to drive miles to visit - yet they all built very successful, growing businesses.
10. A company can lose its soul when hired guns (i.e.“professional management”) take over. Home Depot was a fantastic entrepreneurial success in its growth phase when it started out employing skilled carpenters, painters, plumbers and electricians to work in its stores. “They served their customers well and the company grew into the largest home center retailer in the country. When management changed and a take-no-prisoners, cost cutting approach was adopted, most of those full-time craftsmen got caught in the cross fire. Without skilled employees, Home Depot’s sales suffered and its sterling customer service reputation was tarnished.”

One great retailer not covered in this book is Borsheims in Omaha, which operates the largest jewelry store outside of Tiffany's in NYC. It's the place Bill Gates flew his private jet to to pick out a ring for Melinda (their buddy Warren Buffett owns it). Nebraska Furniture Mart is another great retailer, also in Omaha, and also owned by Warren Buffet's Berkshire Hathaway. 

Woodman's is one of my favorite success stories of all time. No book has been written about them, unfortunately. They are an employee owned chain of grocery stores in WI and IL and have built a $1B+ business that has been evolving and growing for decades and will continue to kill the local Safeways, Whole Foods and Wal-Marts (http://www.woodmans-food.com/). One can learn a lot about how to compete and run a defensible business by studying a company like that. 

One of my favorite retailer-entrepreneurs, Barnett Heltzberg, wrote a book called "What I Learned Before Selling to Warren Buffet." I've blogged about him in the past and it's worth a quick read if retailing or entrepreneurship fascinates you. His key lesson was "Focus on the Controllables" (http://www.blog.altosventures.com/vc/2007/06/the_controllabl.html).

Finally, one of my favorite entrepreneurs of all time is Sam Walton. There have been so many articles and books written about the man as well as his company but the one I'd recommend is "Made in America." 

The Fourth Wave

A few days ago, Michael Arrington posted The Third Disruptive Wave in which he postulates we are entering the Age of Facebook. He later goes on to say that the "Third Wave is happening, but that doesn’t mean that Facebook, Zynga, Groupon, Twitter and a few others are the only winners, or even the biggest winners. Facebook may have created a monster that it simply cannot control, for example."

Before commenting on Arrington's post, I'd like to point out that we are in the FOURTH wave, not the third. In my opinion, each wave of disruption in the computer industry since the invention of the PC is easy to identify because the era was defined by a company which reached a market cap of $100B+ faster than any in history.

In the 1980s, Microsoft grew in dominance to become the fastest company to reach $100B market cap. It took 25 years (11 years to IPO). Casualties along the way were IBM, Wang, DEC, Novell, Lotus, Word Perfect, Apple and many others. 

In the 1990s, Cisco grew in dominance to become the fastest company to reach $100B market cap. It took 14 years (6 years to IPO). Casualties along the way were IBM, 3Com, Bay Networks, AT&T/Lucent, Alcatel, Nortel and many others. Cisco helped fuel the golden age of venture capital by acquiring more than a hundred VC backed companies (and propping up valuations and exit prices of hundreds more). 

In the 2000s, Google grew in dominance to become the fastest company to reach $100B market cap. It took them 8 years. Casualties along the way were Microsoft, Yahoo, AOL and many others. (Interestingly, during the same decade, Apple was reborn and created even more value than Google as it grew from $16B to $200B market cap). 

So, in this decade, in the middle of the FOURTH wave, which startup will grow to become the next $100B company? The obvious answer is Facebook. HOWEVER, if the question is which company will shatter Google's record for fastest to reach $100B market cap, the answer is not so clear. 

Facebook is already more than 6 years old. Even if they reach $100B market cap within the next 2 years, it will NOT shatter the record. Remember, Microsoft crushed the prior record by decades. Cisco got there 11 years faster. Google got there 6 years faster. Each new record holder got there more than 40% faster. 

What's amazing to contemplate is that, during this decade, we may see a company start from scratch to reach $100B market cap in seven years or less. 

We are indeed entering an exciting age and it's not at all clear that the winner of the FOURTH wave will be Facebook. As Arrington noted, "Facebook may have created a monster that it simply cannot control." 

As a VC who has lived through the 1990s and 2000s, I am more excited than ever about the tech industry. The pace of innovation and growth of great new products and companies has been mind boggling (see Arrington's post for recent examples). 

As we look back, the 1990s was fantastic for VCs and entrepreneurs. The 2000s were tough - really tough. In the decade ahead, we might see another fantastic run by VCs and entrepreneurs as fund sizes shrink, capital efficiency comes back in vogue, and the pace of innovation and value creation continues to accelerate. It'll be fun to see how it all plays out. 

Thoughts on Horses by Henry Ford (1908)

I recently came across this great essay by Henry Ford, thanks to a Tweet by @daringfireball who likened it to some of Steve Jobs' Open Letters (see his thoughts on Flash and his thoughts on music).

In 1908, the thoughts were about horses, steam engines and "wise people." The relevant technologies and topics have changed. However, the "wise people" have not. Below is a full transcript with my highlights. 

I didn't realize that "a horseless carriage was a common idea" when Ford started thinking about it. What separated him from others was that he made it happen. That's what great entrepreneurs do. They execute. It's not about the idea.   

Ford also did a couple of other things that all great entrepreneurs do. 1) He pivoted early on (initially, he wanted to build tractors, not passenger cars). 2) He pushed forward and didn't listen to all the naysayers and "wise people." 

Thoughts on Horses by Henry Ford, April 1908

Ford Motor Company, Detroit, MI, USA

EVEN BEFORE THAT TIME I HAD THE IDEA of making some kind of a light steam car that would take the place if horses - more especially, however, as a tractor to attend to the excessively hard labour of ploughing. It occurred to me, as I remember somewhat vaguely, that precisely the same idea might be applied to a carriage or a wagon on the road. A horseless carriage was a common idea. People had been talking about carriages without horses for many years back - in fact, even since the steam engine was invented - but the idea of the carriage at first did not seem so practical to me as the idea of an engine to do the harder farm work, and of all the work on the farm ploughing was the hardest. Our roads were poor and we had not the habit of getting around. One of the most remarkable features of the automobile on the farm is the way that it has broadened the farmer's life. We simply took for granted that unless the errand were urgent we would not go to town, and I think we rarely made more than one trip a week. In bad weather we did not go even that often. Being a full-fledged machinist and with a very fair workshop on the farm it was not difficult for me to build a steam wagon or tractor. In the building of it came the idea that perhaps it might be made for road use. I felt perfectly certain that horses, considering all the bother of attending them and the expense of feeding, did not earn their keep. The obvious thing to do was to design and build a steam engine that would be light enough to run an ordinary wagon or to pull a plough. I thought it more important first to develop the tractor. To lift farm drudgery off flesh and blood and lay it on steel and motors has been my most constant ambition. It was circumstances that took me first into the actual manufacture of road cars. I found eventually that people were more interested in something that would travel on the road than in something that would do work on the farms.

But I did not give up the idea of a horseless carriage. The work with the Westinghouse representative only served to confirm the opinion I had formed that steam was not suitable for light vehicles. That is why I stayed only a year with that company. There was nothing more that the big steam tractors and engines could teach me and I did not want to waste time on something that would lead nowhere. A few years before - it was while I was an apprentice - I read in the World of Science, an English publication, of the "silent gas engine" which was then coming out in England. I think it was the Otto engine. It ran with illuminating gas, had a single large cylinder, and the power impulses being thus intermittent required an extremely heavy fly-wheel. As far as weight was concerned it gave nothing like the power per pound of metal that a steam engine gave, and the use of illuminating gas seemed to dismiss it as even a possibility for road use. It was interesting to me only as all machinery was interesting. I followed in the English and American magazines which we got in the shop the development of the engine and most particularly the hints of the possible replacement of the illuminating gas fuel by a gas formed by the vaporization of gasoline. The idea of gas engines was by no means new, but this was the first time that a really serious effort had been made to put them on the market. They were received with interest rather than enthusiasm and I do not recall any one who thought that the internal combustion engine could ever have more than a limited use. All the wise people demonstrated conclusively that the engine could not compete with steam. They never thought that it might carve out a career for itself. That is the way with wise people - they are so wise and practical that they always know to a dot just why something cannot be done; they always know the limitations. (continued page 2)...

Fred Wilson and John Doerr disagree about the iPad. Who's right?

John Doerr and Fred Wilson are among the very best VCs in the world. Surprisingly, they have very different takes on the iPad which were published this morning.

Today's Techcrunch guest post by John and his partners from Kleiner Perkins Caufield & Byers talked about the iPad as The Next Big Thing. The post starts with John's "aha moment" when Bill Joy showed him the Web for the first time using a Mosasic browser. He goes on to say that the "advent of the iPad feels like deja-vu, like it’s happening all over again. Not once, but TWICE-in-a-lifetime."

Later this morning, I read Fred Wilson's thoughts on the iPad which had a very different take. Fred thought it was a nice device but was not blown away. In his words, "the iPad is stuck in a difficult place between the smartphone and the laptop and it's not nearly as convenient as a phone or as powerful as a laptop." He goes on to say "I don't think Apple has the kind of hit on its hands that it had with the iPhone."

So who is right?

From my own observation, my 2 and 3 year olds have taken to the iPad like nothing else - better than any computer, book or TV show they've ever seen. It's highly intuitive and interactive. We read the Toy Story book last night (free app) and played with the drawing apps (many free) before putting them to bed. I had to pry the damned thing from their fingers. 

I think the iPad will be the computer for the masses. For both young and old people who don't really care that much about computers. The device has a magical quality. 

In the tech world, there has been much talk about "Techies" and "Normals" (or Muggles as some like to call them). I guess Techies are like the grand wizards who understand and appreciate technology that might seem mysterious and sometimes magical to mere Normals. 

The thing is, to build a big company, you have to appeal to Normals. Sometimes, a product which appeals to Techies end up becoming a hit among Normals; like Twitter, for example. However, most of the time, Normals could care less about what Techies rave about. They don't care about technology. They don't want technology. They just want something that works. It has to be simple and useful - right away. If it's too complicated it'll go th way of the blinking 12:00 light on VCRs. 

It's ironic that Steve Jobs has such a huge following among Techies because he could care less about them. He has an intuitive sense for Normals. He has great empathy for them. 

Bill Gates once commented that he would love to have Steve's taste (goto minute 2:30 of the video). What Bill Gates admired most about Steve was his "sense for people and products" that was magical. He called it "wow." A product decision that Gates would view as an engineering decision, Steve would look at from the end users perspective - the end user being a Normal, rather than a Techie.  

That is the difference between Fred and John's take on the iPad - Fred has a Techies view; John has a Normals view. They are both right.

From the viewpoint of the marketplace, Normals win. Apple is a massive company that will produce more than $40B in revenues from only a handful of products. They will grow at something like 40% this year which is phenomenal for a company of such massive size. To help justify Apple's market cap of more than $210B (which is only about a 20 forward p/e ratio) Apple has to keep producing hit products which generate tens of billions a year. 

Shipping hit products among Techies will no longer move the needle for Apple. Steve Jobs could care less about Techies; he caters to Normals. With the iPad, I think he's done it again.

Fat Startup Watch

I'd like to start tracking the best fat startups to see how they do over time. Please email me suggestions of the latest and greatest fat startups. You can also submit suggestions as a comment to this post (which is how I plan to update this list over time). 

To qualify, the company must raise at least $10mm before they achieve product-market fit. For example, companies such as Facebook, Twitter and Zynga would not qualify as fat startups since they raised the vast majority of their funding after they had significant traction. 

In contrast, a good fat startup example is Tom Siebel's latest company, C3, which is still in stealth mode. I believe they raised $10mm in an initial seed round from individual investors. Since then, they've raised a lot more funding from some great institutional investors at much higher valuations which I cannot disclose. 

Here is an article from the Washington Post talking about C3 closing another $26 million in funding and landing Condoleeza Rice on its Board. Such a high profile person joining a tiny company is not a surprise since one of the defining characteristics of fat startups is an impressive roster of "proven" and/or famous people on the management team and board. 

The second fat startup I'd add to the list is Workday, which is founded by Dave Duffield, former founder/CEO of Peoplesoft. To date, they have raised more than $150 million. I believe the last round was at around $400 million dollar valuation. Good for them.

Let's see what happens...

What Did Bill Gates Worry About? Lean or Fat?

I found this from the transcript of a Charlie Rose interview with Ken Auletta, right after "Googled" was published. It is interesting to hear about what Bill Gates worried about back in 1998, near the all time peak of his power (and the peak of the fat startup era). 

CHARLIE ROSE: And are they on the cutting edge of exciting stuff or are there two more kids in a dormitory room at Stanford that are about ready to come up with something that’s going to blaze new trails? 

KEN AULETTA: Well, we don’t know that. That’s the great thing. I mean, I think I may have told the story when I was on your show, I tell in my book that Bill Gates in ‘98, when I asked him what he worried about, he didn’t say the obvious, which is "My competitors, Netscape, or Oracle or Apple." He said "I worry about someone in a garage inventing something that I haven’t thought of." 

(LAUGHTER)

That year there were two guys in a garage. 

CHARLIE ROSE: Sergey and Larry in a dorm, yes.

KEN AULETTA: Google has the same reason to worry. What is that new technology? One thing they are conscious of is social networking and that could pose a problem for search. 

 

Now, I should also point out that Mark Zuckerberg started Facebook in a dorm room while Kleiner Perkins and Benchmark funded Friendster and Sequoia funded Plaxo during the very early days of social networking.

I feel like a broken record but this is something I wrote in 2006 in Venture Lotto:

The most sought after deals are led by proven managers. Especially popular are entrepreneurs who have made money before - they get investors lining up like sheep.

Ironically, the people who end up creating the blockbusters are usually unproven managers. They emerge from the fringes, and start small, in niche or overlooked markets. They take time to learn and iterate and burn very little capital before turning profitable. They follow a slower, but lower-risk path. In our own portfolio, the companies which raised less funding not only performed far, far better but had much lower failure rates.

Entrepreneurs can't count on a portfolio. The best ones we know are much more risk-averse than conventional wisdom might suggest. They don't take foolish chances. They spend money as if it were their own. They observe, listen and adapt; but fundamentally, they strive to control their own destinies, which is best done by generating profits. They do need a little capital, but they want help and advice even more. 

Ben Horowitz Makes Compelling Case for Lean

Like many of you, I've been following a fascinating and important debate between Ben Horowitz and Fred Wilson over the past couple of days. To recap, it all started with this post: The Case for the Fat Startup.

Fred then responded with Being Fat is Not Healthy which has received a lot of comments worth reading, including some comments from Ben. 

Then earlier today, Ben responded with the best post of all The Revenge of the Fat Guy.

After reading through the posts, I've come to the conclusion that Ben and Fred actually agree on the fundamental points. In fact, the most important point was already made by Steve Blank last year in Lean Startups Aren't Cheap Startups.

Steve, a key figure in the lean startup movement, felt the need make the case that you cannot confuse lean with cheap. He concludes with the point that if you confuse the concepts "when you do find a repeatable and scalable sales model, you will starve your company for resources needed to scale."

The reason I love Ben's latest post is that he helps debunk some myths about Product-Market Fit, which, according Marc Andreessen, is "the only thing that matters" Along the way, he also makes a compelling case (though perhaps unintentionally) for staying lean. 

Ben's post should be a warning for entrepreneurs and VCs who put too much faith behind the magical product market fit concept. Here are some things to watch out for:

1. Product market fit is NOT a discrete, big bang event. If you are fortunate to find product market fit, you will most likely get there through lots of hard work "through partial fits, a few false alarms, and a big dollop of perseverance...there’s no formulaic answer."
2. It's NOT obvious when you have product-market fit. "It’s usually not black and white."
3. Once you achieve product-market fit, you can lose it.
4. Once you have product-market fit, you still have to "sweat the competition."

All of these points should serve as a warning for people with too much money to spend (or invest) and eager to step on the gas once product market fit is found. Given all of the uncertainties, it would be prudent to maintain some humility even if you believe that you've found product-market fit (you can also reach the opposite conclusion - even when in doubt, step on the gas - it's just not the path I'd recommend). 

Ben's last point is important to consider because, on the surface, it makes a case for the fat startup. Since "the best markets are usually the ones in which competition is fierce" you should invest aggressively to make sure you win the market."

I would ask, how much should you raise/invest? How about a billion dollars as Webvan did?

In any huge new market, there is no question competition will heat up. But even a billion dollars is nothing when you are talking about competing against the big guys. 

Rather than focusing on how much money to raise, how about focusing on producing profits and creating a sustainable business model?

When I look at competitors, the ones that scare me are the ones that have found ways to make money and scale at the same time. The "fat startups" that are burning through millions or tens of millions of dollars a month don't scare me.

Ben says that you can't win the market by saving your way there. I totally agree. But conversely, you can't win by spending your way there either. Even if you raise hundreds of millions. For every Loudcloud/Opsware, there are dozens of craters. As David Packard liked to say, "more companies die from indigestion than starvation."

There is no question that Ben is a great entrepreneur who knows first hand how difficult it is to build companies. He knows that it often takes more money and longer than you'd like. So it would make sense to raise more money than you think you need. If someone offers to invest boatloads of money in your company at a great price, you should consider taking it. I agree. But even Ben has said that it should not be your plan A.

If you are one of the very fortunate entrepreneurs who is able to get boatloads of funding at a great price, you should be careful to resist pressures to spend that capital from excited investors. You need to also do your best to resist your own temptations to pursue every great idea that you and your great team comes up with to win the market. A company growing on profits just tends to be much more disciplined than one growing based on boatloads funding.

Just as Ben agues that Twitter is the exception, not the rule, I'd say that Loudcloud/Opsware is the exception, not the rule.

Even Loudcloud/Opsware is not a very compelling case for the fat startup. They raised $346mm in 15 months and went public in March 2001. By September 2002, market cap had fallen to $28mm, which was less than cash on hand and about 8% of capital raised to date. That sounds like value destruction to me. If you were an investor or employee, you'd be pretty bummed right about then.

Then an amazing thing happened. From 2002 to 2007, the company raised no more capital and created tremendous value - great job Ben! They exit for $1.6B in September 2007! I would guess that there was a lot of great technology created in the prior 2 years that helped. But I would also guess that the thought of running out of cash was pretty scary when you are at a $28mm million market cap. If I were in their shoes, I would have been more determined than ever to get to profitability so that I would never have to raise more funding. 

To recap, during the first era (Loudcloud), hundreds of millions are raised and return almost nothing. During the second era (Opsware), if you bought stock, which was publicly available, so any of you could have participated - you did NOT have to be a famous entrepreneur or a hotshot VC to get a chance to invest - you would have made a spectacular return.

Ben Horowitz just reinforced my belief that "fat startup" is not only a bad idea but a dangerous one. Just as the lean startup concept can be harmful if people misunderstand the key points, the fat startup concept can also be harmful. In fact, it can be a LOT more harmful to the VC industry. Entrepreneurs will also suffer from excessive dilution, recaps and wasted lives pursuing bubbles and false dreams.

I'll end with a concept Warren Buffet has repeated over and over again - don't count on the kindness of strangers to save you. Make sure you have enough cash on hand. To me, that is not an argument for the fat startup, it's an argument for the lean startup.

So What's With All This Talk of Failure?

Have you noticed all the talk and blog posts about failing? Here are some examples: 

• Peter Rip: Fail Fast, Fail Often
• Josh Kopelman: Failing Cheaper
• Brad Feld: The Best Entrepreneurs Know How to Fail Fast 
• Scott Wolfgang: Even VCs Should Learn to Fail Fast 
• Auren Hoffman: To Grow a Company You Need to be Good At Killing Things 
• Anthony Lee: Failing Fast 

The main message is this: it's not only OK to fail, but it might be the smart thing to do if you do it quickly and cheaply and learn from the experience. 

In a book called The Dip Seth Godin takes it a step further and advocates the idea of quitting or killing off something early before you even have a chance to fail. To be fair, he also says that - many times - the right thing to do is to keep pushing ahead (because you are just hitting "the dip" before you reach eventual success). But that's just conventional wisdom right? It would not sell many books or drive page-views.  

Mark Suster in his recent post called Why the 'Fail Fast' Mantra Needs to Fail calls bullshit on all this talk of failure. So does Jason Fried who wrote the following in Rework: 

“In the business world, failure has become an expected rite of passage. You hear all the time how nine out of ten new businesses fail. You hear that your business’s chances are slim to none. You hear that failure builds character. People advise, ‘Fail early and fail often.’

“With so much failure in the air, you can’t help but breathe it in. Don’t inhale. Don’t get fooled by the stats. Other people’s failures are just that: other people’s failures."

What people are talking about when they espouse "failing fast" is fairly basic. Before you become great at something you might stumble along for a while. If something's not working, try something new or different. As Einstein said, the definition of insanity is doing the same thing over and over again expecting different results. 

My 3 year old son seems to have no problem grasping this concept. He doesn't have fancy terms like experimentation, iteration or pivoting to describe what he's doing; and he certainly doesn't think he's failing. He's absorbing, learning, trying new things and having fun.  

To become good at anything, you need to give it a shot, experiment, practice, learn, iterate. No big deal. Let's NOT call it failure. Let's call it what it is. Mark's suggestion was "launch and learn" or something else. I hope people take his advice.

Having said all that, I'd like to provide an example of the best fail fast (or quit early) story I've heard in a while and explain why it does make sense to cut your losses sometimes. I also want to explain why I believe the "fail fast" meme took off in the venture community. 

The story was told to me over lunch last week by Glenn McGonnigle who recently started TechOperators, with other proven entrepreneurs and executives in Atlanta. I think they are one of the best VCs in the world in the security market (they are co-investors in a recent deal). 

In the mid 1990s, Glenn started an online backup company. I think you'd all agree that he was a bit early! After some struggles, one of his angel investors Kevin O'Connor approached him to have a little talk. Kevin hinted that the market might not be ready for what he's doing so perhaps he should consider joining a couple of other companies that he was working on. It was totally up to him to decide what to do (but read between the leaves, there will be no more funding).

After thinking it over, Glenn came to the conclusion that he was too early and decided to shut down his company and take up Kevin's offer to check out his other ventures. The first company was targeting the Internet advertising market, which was still in its infancy in 1995. The other company was also in a nascent market for network security and penetration testing software. Glenn decided that he didn't know anything about the ad business and joined the latter as VP Sales. The company had just $50k in angel funding from Kevin and had hired Tom Noonen as CEO (Tom is a co-founder of TechOperators with Glenn). 

In their first year of operations the company did $300k in revenues. The next year they sought their first round of funding. Glenn didn't know any VCs except for one guy he used to work for - Bob Davoli - who had recently joined Sigma partners. The other VC was Dave Strohm of Greylock, who happened to be the only VC that Tom knew. So, in 1996, a little company named Internet Security Systems (ISS) based in Atlanta raised $3.5M from Boston and Bay Area VCs. 

The following year they raised Series B from Kleiner Perkins Caufield and Byers (Ted Schlein, who was formerly with Symantec and knowledgeable about the security space, led the round). The year after that (1998) they completed an IPO and the stock shot up 70% the first day. The year after that ISS completed a BILLION dollar secondary offering. At its peak, ISS reached a market cap of $4B. Even after the Dotcom crash they continued to grow to $400mm in revenues and were eventually acquired by IBM for $1.4B in 2006.

It was an amazing return for everyone especially Kevin O'Connor who bought an initial 30% stake in the company for $50k. Given that Kevin recruited both the CEO and VP Sales that took the company public, I'd say that he deserved it (the technical founder, Chris Klaus, was a student out of Georgia Tech). 

BTW, the company that Glenn passed on is the company that Kevin O'Connor is better known for - DoubleClick, which also completed its IPO in 1998. They initially had a different name and were based in Atlanta before moving to NY where most of their customers were based. 

So, as it turned out, Glenn could have chosen either company and would have done great. The only wrong choice would have been to stick with his original company! 

The lesson in all this? Sometimes it is better to move on. However, as Mark Suster points out, when you take money from investors you have a moral responsibility. To just walk away and abandon customers, investors and other stakeholders would be "irresponsible, unethical and heartless" using Mark's eloquent words.  

Although I agree with Mark, I would like to point out something which helps explain why the fail fast meme took off in the VC world. In my experience, entrepreneurs are usually the last people to quit. VCs typically give up on companies long before entrepreneurs do! 

One example from my personal experience is the founder of Enwisen, one of our portfolio companies from 1996. Everyone gave up on the company except for the founder and his wife who were both in their 60s. They just refused to give up even with no more funding and no employees left in the building. 

The founder has since retired but the company lives on. All debts have been paid off and all VC and angel investors have a chance to not only get their money back but make a profit. The company has been profitable for years and grew 60% last year, even during one of the worst recessions in decades. The CEO gets calls all the time about potential M&A or growth equity rounds. Maybe one day they could even go public, like Financial Engines did today in the hottest IPO of 2010 (they were also founded in 1996). 

When you are working with true entrepreneurs, you don't have to encourage them to keep going. More often than not, you have to provide a different perspective, point out the realities and, as Kevin O'Connor did, provide some alternatives that might mean moving on.

It really should be up to entrepreneurs to decide whether to quit or to keep going. As a VC, if I picked the right person to back, I don't have to worry about him/her quitting on me. But, sometimes, I do have to have a little talk to point out realities that the ever optimistic and passionate entrepreneur might not see.  

A Little Warning For All Those Skeptics of the iPad

Boy people sure do seem to hate the name iPad. I heard that iTampon was the #3 trending topic on Twitter yesterday! 

Here are some things that people said about another Apple product - the iPod. IPOD stands for:

• "I Pretend it's an Original Device"
• "Idiots Priced Our Devices"

To be fair, there was so much hype leading up to yesterday's announcement that perhaps there was no way even Steve Jobs could meet expectations. The iPad was supposed to change the world. Create a whole new category of gadget, which, according to Walt Mossberg and others, Steve has never done. By their definition, the pundits will say that Steve Jobs did not create anything new here either. 

Here is another good quote about the iPod from October 2001 (it sounds like many quotes I heard about the iPad yesterday):

"Apple has introduced a product that's neither revolutionary nor breakthrough"

Finally, here is a link to a video of Steve Ballmer laughing about the iPhone in 2007. 

http://www.engadget.com/2007/01/18/steve-ballmer-laughs-off-the-iphone-deems-it-most-expensive-i/

For me personally, I believe the iPad will be the leading product in a killer new category. It has been nearly 10 years since the iPod launched and competitors still have not caught up. I think we could be saying the same thing about the iPad 10 years from now. The integration of hardware (including their own A4 processor - a huge move) and software should keep them in the lead as long as they continue to execute, as they have with the iPod and its successors, including the iPhone. 

I've been anticipating the iPad ever since I got my hands on the Kindle. The Amazon folks have been expecting it too (Apple has been the only competitor the Kindle team feared). 

Over the past few months, I have been anticipating the iPad even more as I have used the iPod Touch and Nexus One more and more as content consumption devices. The Touch, in particular, is just a dream to use; it's really a pleasure. Even though the screen is not nearly as good as the Nexus One (or even my Blackberry) the tactile feel and responsiveness to the touch in my hand as I scroll through information is matched by no other devices I've ever used. Believe it or not, the Touch is the only Apple device I use. I am NOT a particularly big Apple fan. I don't use Macs (although I still do have a 10 year old Mac) and I gave away my iPhone after a year of frustration. 

I am a very loyal Windows and Blackberry user. Yet I have seen glimpses of a product experience that is truly magical with the Touch. If the Touch had the screen resolution of a Nexus One, it would be my only handheld content consumption device. For certain types of content, it's better than my Blackberry, PC or the Kindle. In my office, I have a fantastic laptop which connects to a beautiful, large scree which extends the screen real-estate of my PC. I love working at my desk. But even as I sit in front of two large screens, I often find myself interacting with certain pieces of info on my handheld devices. It's just more intuitive and pleasurable. 

I believe the iPod Touch is one of the most under-rated electronic gadgets ever. However, I have no doubt that Steve Jobs understands its importance. The Apple people know the numbers. Both unit sales and usage/content consumption have been going through the roof. The iPhone gets all the attention but the Touch has quietly become a juggernaut. The iPad, or the "iTouch XL", as some call it will be even bigger (literally and figuratively). It will unleash a whole new content consumption experience. It believe it will become my favorite device. 

In the enterprise world, there are transaction processing systems which require databases that you can write to as well as read from. There are also read only or "mostly read, occasionally write" type of systems which require a totally different database architecture and computer systems. In the consumer world, PCs and phones are much more like transaction processing systems. I use those devices to get work done. I don't find much pleasure using those devices. I just want to be super efficient.

I believe in the personal computing world, iPad and similar type of devices will become the "mostly read, occasionally write" devices that the vast majority of consumers will use and come to love in the coming decades. 

Reference Links:

http://www.businessinsider.com/itampon-reaches-3-on-twitters-trending-topics-2010-1

http://www.wired.com/gadgets/miscellaneous/news/2001/10/47805

http://www.guardian.co.uk/technology/blog/2010/jan/28/apple-ipad-bashed-bloggers-web

http://mossblog.allthingsd.com/20100127/apple-ipad-impressions/